Engulfing Candle Pattern: Candlestick patterns are a basic yet important aspect of technical analysis that provides us with an insight into the potential trend in the price of the security. Among these patterns, the engulfing candle pattern is one of the significant patterns that help us identify the reversals in the market.

In this article, we will understand what engulfing pattern looks like and how traders can use this pattern to identify the reversals in the market .

Engulfing Candlestick Pattern

What are Engulfing Candle Patterns?

An Engulfing candle pattern is a two-candlestick pattern that signals the reversal of the current trend in the market. The first candle in this pattern comprises a small body that moves in the direction of the current trend. The second candle has a larger body that moves against the current trend and indicates a reversal in the price of the security. Here, the second candle completely engulfs the body of the first candle.

The engulfing candle patterns can be categorised into two types, that is, the bullish engulfing candle pattern and the bearish engulfing candle pattern. Let us now understand the characteristics of each of these patterns and understand how to trade using them.

Bullish Engulfing Candle Pattern

Bullish Engulfing Candle Pattern is a bullish reversal pattern that appears at the bottom of the downtrend. This formation comprises a red candle which is followed by a green candle. The first candle is a small-bodied red candle that is part of the previous downtrend. The second candle is a large-bodied green candle that completely engulfs the body of the first candle. 

In this pattern, the wicks on the candles aren’t as important. But, one should note that the body of the green candle should be twice as big as the body of the red candle. This candlestick pattern will have a better conviction to it if the body of the green candle engulfs even the shadows of the red candle. The formation of this candlestick pattern during a downtrend indicates that the buyers are aggressively entering and gaining control of the market. This provides an initial indication for further upward momentum.

How to trade the bullish engulfing candle pattern?

Following are the steps involved to trade the bullish engulfing candle pattern effectively:

Identify the pattern: The best scenario for this pattern to work is after a downtrend. This is followed by a large green candle which completely engulfs the body of the last red candle of the downtrend.

The green candle accompanied by high buying volumes will add better conviction to the bullish reversal in the market.

Entry: After the formation of the large green candle, enter a long position in the security if the next candle trades above the engulfing pattern.

Stop Loss: The low of the body of the red candle serves as a trigger for stop loss for this pattern. If the price falls below the red candle, then all the long positions entered must be squared off.

Profit Target: The profit target here can be the immediate level of resistance. One can also use the trailing stop-loss method to ride the trend until it gets exhausted.

Bearish Engulfing Candle Pattern

Bearish Engulfing Candle Pattern is a bearish reversal pattern that appears at the top of an uptrend. This formation comprises a green candle which is followed by a red candle. The first candle is a small-bodied green candle that is part of the previous uptrend. The second candle is a large-bodied red candle that completely engulfs the body of the first candle. 

Similar to the bullish engulfing pattern, the wicks on the candles aren’t as important. But, one should note that the body of the red candle is twice as big as the body of the green candle. This candlestick pattern will have a better conviction to it if the body of the red candle engulfs even the shadows of the green candle.

The formation of this candlestick pattern during an uptrend indicates that the sellers gaining control of the market. This provides an initial indication for further downward momentum.

How to trade the bullish engulfing candle pattern?

Following are the steps involved to effectively trade the bearish engulfing candle pattern:

Identify the pattern: The best scenario for this pattern to work is after an uptrend. This is followed by a large red candle which completely engulfs the body of the last green candle of the uptrend.

The red candle accompanied by high selling volumes will add better conviction to the bearish reversal in the market.

Entry: After the formation of the large red candle, enter a short position in the security if the next candle opens below the engulfing pattern.

Stop Loss: The high of the body of the green candle serves as a trigger for stop loss for this pattern. If the price rises above the green candle, then all the short positions entered must be squared off.

Profit Target: The profit target here can be the immediate level of support. One can also use the trailing stop-loss method to ride the trend until it gets exhausted.

Engulfing Candle Pattern In Trend Continuation

Although an engulfing pattern is prominently used to identify the reversals in the trends of security, they can also be used to identify the continuation of the existing trend.

If a Bullish engulfing pattern appears in the middle of an existing uptrend, it is an indication that the bullish trend will likely continue further. Similarly, the appearance of a bearish engulfing pattern in the middle of a downward trend will likely indicate a further fall in the price of the security.

The engulfing pattern accompanied by strong volumes will add better conviction to the continuation of the existing trend. But a weak volume along with the pattern may indicate exhaustion in the current trend.

In Closing

Before we conclude our article on engulfing candle patterns, it must be noted that, though this pattern gives you an insight into the reversal or continuation of the existing trend, it might prove to be successful every time. Thus, one should confirm the reversal using other technical indicators and set a stop-loss while trading using this pattern in the market.

Written by Deepak M

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